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Wednesday, October 7, 2015

The SEC On "Robo Advisors"

I have written several times on "Robo Advisors". In one of those analyses I pointed out that the information gathered through the short on line questionnaire severely limits the extent to which the portfolio chosen does a good job in meeting the clients specific circumstances. It seems like the SEC agrees with many of these points. In an document entitled

Investor Alert: Automated Investment Tools

It notes
3. Recognize that the automated tool’s output directly depends on what information it seeks from you and what information you provide.
Which questions the tool asks and how they are framed may limit or influence the information you provide, which in turn directly impacts the output that an automated investment tool generates.  If any of the questions are unclear or you do not understand why the information is being sought, ask the tool sponsor.  Be aware that a tool may ask questions that are over-generalized, ambiguous, misleading, or designed to fit you into the tool’s predetermined options. 
In addition, be very careful when inputting your answers or information.  If you make a mistake, the resulting output may not be right for you.
4. Be aware that an automated tool’s output may not be right for your financial needs or goals. 
An automated investment tool may not assess all of your particular circumstances, such as your age, financial situation and needs, investment experience, other holdings, tax situation, willingness to risk losing your investment money for potentially higher investment returns, time horizon for investing, need for cash, and investment goals.  Consequently, some tools may suggest investments (including asset-allocation models) that may not be right for you. 
For example, an automated investment tool may estimate a time horizon for your investments based only on your age, but not take into account that you need some of your investment money back in a few years to buy a new home.  In addition, automated tools typically do not take into account that your financial goals may change. 
If the automated investment tool does not allow you to interact with an actual person, consider that you may lose the value that human judgment and oversight, or more personalized service, may add to the process. 

Another observer has made a very sharp critique arguing that the "Robo advisors" do not meet the fiduciary standard required of Registered Investment Advisors.

Robo advisors do not adhere to the high standard of care under fiduciary investment law, particularly the Uniform Prudent Investor Act. They do not evaluate an investor’s total financial circumstances in light of all relevant factors and do not reasonably verify all facts relevant to a client as required by the Act.
The Act requires a fiduciary to make investment decisions “not in isolation” but in the context of the portfolio “as a whole” and as a part of an overall investment strategy having risk and return objectives suited to the trust. Robo advisors do just the opposite — they make isolated investment decisions that do not necessarily consider the investor’s total portfolio. Robo advisors also do not monitor client investments for suitability on an ongoing basis.
Regardless of whether you choose to handle your investments on your own with a brokerage account ,through a robo advisor or through a human advisor it is important to understand the very different services each provides.

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